Mortgages, i.e., liens on land and improvements thereon, given as security for the payment of debts, are time-honored instruments for financing the purchase of real estate. A highly developed market exists for traditional real estate mortgages where lenders are compensated with interest on the principal amount extended. Fundamental aspects of traditional real estate mortgage lending at interest: 1) create a large prospective financial burden for borrowers in the form of total interest paid over the life of the instrument that normally exceeds the original principal extended, 2) constrain the borrowing, and ultimately, purchasing capacity of borrowers, and 3) subject lenders to risks stemming from, among other factors, variations in future interest rates. These fundamental aspects of traditional real estate mortgage lending have become firmly entrenched, with relatively little variation in the mortgage plan approach.
Nonconventional residential mortgage plans have been proposed and used, however. The most widely used nonconventional mortgage plan, perhaps, is the adjustable rate mortgage (ARM), which attempts to shift the interest rate risk to borrowers in return for providing lower initial interest rates. Other alternative instruments which have seen limited use in the past include the graduated payment mortgage (GPM), the price level adjusted mortgage (PLAM), and the shared appreciation mortgage (SAM). Each of these mortgage plans was developed to address specific problems with the vulnerability by traditional mortgage lenders to higher interest rates. The first was developed to expand the number of potential homeowners eligible for mortgage financing. This is a particular concern in inflationary times when high rates depress the borrowing capacity of potential homeowners. By skewing the payment burden toward later in the amortization period, the GPM allowed borrowers to obtain mortgage financing based on their prospects for increased future income.
The PLAM addressed the different problem of the lender""s exposure to subsequent inflationary environments. Under this plan, the borrower""s payments, consisting of principal and interest, varied according to fluctuations in an outside index of inflation, such as the Consumer Price Index.
The first residential SAM was offered in 1980 and required a one-third share in any appreciation of the value of the securing home in exchange for a one-third reduction in the current interest rate. SAM""s had a fixed maturity date when all principal and compensation were due. They never achieved popularity for a variety of reasons, as explained in U.S. Pat. No. 5,644,726 to Oppenheimer:
First of all, the SAM required a costly and uncertain specific house appraisal to determine the lender""s share, if any, of appreciation after forced refinancing in ten years. Secondly, the homeowner had to refinance, not only the remaining mortgage principal, but original lender""s share of appreciation. Finally the homeowner had no way of fixing, at the inception of the SAM mortgage, his monthly mortgage payments after the initial ten year refinancing.
(Oppenheimer, col. 2, lines 7-14).
Another example of a nonconventional mortgage is disclosed in U.S. Pat. No. 5,819,230 to Robert A. Christie, incorporated herein by reference, which references the Merrill Lynch Mortgage 100 program. There, the home buyer initially places marketable securities having a value of at least 39% of the home""s purchase price in an account pledged as collateral on the mortgage loan, and appreciation of the securities over the life of the loan helps compensate for risk associated with any depreciation in home value. Similarly, U.S. Pat. No. 5,852,811 to Charles Agee Atkins discloses a mortgage plan in which money normally used to amortize the mortgage is placed into other asset accounts, so that as the home increases in value, additional loans may be made to the borrower to keep the loan-to-value ration constant at 80%.
Yet another example of a nonconventional mortgage plan approach is disclosed in the ""726 Oppenheimer patent, also incorporated herein by reference. This discloses the use of a two-part principal allocation, a traditional interest bearing portion xe2x80x9cAxe2x80x9d and an equity portion xe2x80x9cBxe2x80x9d, in which the principal is not repaid on portion B until portion A is completely amortized. An outside housing index is used to annually calculate the amount of equity participation to be realized by the lender at sale or maturity, regardless of changes in the actual home""s value. Under this plan, the lender shares not only in the appreciation in the house above its initial purchase price, but also has a claim against the equity (above the loan balance at maturity) created by the borrower""s repayment of principal. Also under this plan, there is a fixed maturity date when all principal and compensation are due.
A basic characteristic in common with all traditional and alternative mortgage instruments is that interest paid currently on outstanding principal is the dominant form of compensation to the lender. This must be the case when the two traditional sources of mortgage capital, portfolio lending by financial institutions and securitization in the secondary market, each have their own current liability finding costs to meet. This practice, as a byproduct, returns principal to the lender in a back-loaded, non-linear manner so that the average principal balance outstanding during the amortization period remains significantly above 50% of the original amount, as illustrated in FIG. 3. For instance, the midpoint in principal reduction during the amortization period of the traditional 30-year fixed rate loan in FIG. 3 is approximately 23 years.
This slow, back-loaded return of principal makes it difficult to reliably generate a sufficient return on investment where home appreciation, instead of periodic interest, is to be the dominant or sole form of compensation.
The return on a mortgage, or any investment, can be measured as:       Average Annual Profit        Average Annual Principal  
What former mortgage plans ignore is the value of maximizing the return by manipulating the denominator, annual average principal, so that it is repaid much more rapidly, and on or near a straight line amortization basis. This can only be done by removing current interest paid on outstanding principal or making it an inconsequential component of investor compensation. When this is done, even a relatively small average annual profit generation, which would be insufficient for mortgages with back-loaded returns of principal, produces a satisfactory return.
Under existing mortgage plans, the only way to speed the return of principal to the lender is by drastically increasing the size of the monthly payment, or conversely, drastically lowering the initial mortgage principal lent. Doing so either creates an unaffordable monthly payment burden, or substantially diminishes the borrower""s purchasing capacity. In either case, the principal return remains significantly back-loaded and non-linear so that the average principal outstanding during the amortization period is a larger percentage of the original balance.
Currently, there is a traditional xe2x80x9ctriangularxe2x80x9d approach to the implementation of mortgages on the lender""s side, using a mortgage originator, a mortgage lender, and a servicer of the mortgage. The xe2x80x9coriginatorxe2x80x9d, which may be a bank, a savings and loan/thrift institution, or a mortgage broker, initially obtains the client/borrower and also typically performs underwriting duties (e.g., verifying income, credit approvals, providing documentation at closing, including the loan agreement (the xe2x80x9cnotexe2x80x9d) and the mortgage agreement). The xe2x80x9clenderxe2x80x9d is the entity providing the mortgage funds, which are typically wired at closing. The xe2x80x9cservicerxe2x80x9d is the entity that services the mortgage during its life (e.g., periodic mortgage payments are sent by the borrower to the servicer). Those of ordinary skill in the art will understand that, within the spirit and scope of the present invention described below, this conventional triangular approach can be maintained, and may be accomplished by one single party (providing all three functions outlined in this paragraph), or either two or three parties each providing at least one of the three functions, subject to competitive and regulatory considerations.
In the past two decades within the United States, for example, relevant (e.g., U.S. Treasury) interest rates have fluctuated by as much as 10% or more, subjecting both borrowers and lenders to obvious and considerable risks. Accordingly, it would be highly advantageous to provide a new system and method for implementing a mortgage plan that can reduce lender risks associated with fluctuations in interest. It would also be advantageous to provide the lender with the potential for higher returns without unduly penalizing the lender from a tax perspective, and while also providing the borrower with incentives such as the potential for obtaining an increased mortgage which can be amortized more quickly than with conventional mortgage plans.
Accordingly, it is an object of the present invention to provide a new mortgage plan in which the lender can maximize its return while reducing lender risks associated with fluctuating interest rates.
It is another object of the present invention to reduce the amortization time period by removing current interest paid or by making it an inconsequential component of investor compensation, thus also providing the borrower with the opportunity for obtaining a larger mortgage.
These and other objects are achieved by the present invention, which preserves the advantages of existing systems and methods for implementing mortgage plans while overcoming disadvantages associated with such systems and methods, and also providing new advantages.
The invention is a system and method for implementing a mortgage plan using a computer system to provide mortgage documents which specify an amount of mortgage principal and a predetermined term for repayment of the principal, preferably with no interest. The mortgage documents also create a promissory obligation (EPMO) by the borrower, termed here xe2x80x9can equity participation mortgage obligationxe2x80x9d, to share with the lender a certain predetermined percentage of the realized appreciation on the subsequent sale proceeds of the mortgage asset.
In a particularly preferred embodiment of the present invention, a method is employed using a computer system for implementing a mortgage plan and preparing mortgage documents specifying payment obligations of a borrower to a lender. The mortgage plan includes an equity participation mortgage obligation. Data is first input into the computer system regarding the terms of the mortgage, including the principal amount and the amortization period. Annual average principal and periodic payment obligations of the borrower accruing under the mortgage obligation are then calculated. A mortgage document is then prepared which includes the equity participation mortgage obligation and which specifies that the lender may share in a predetermined percentage of realized appreciation on subsequent sale of the asset which is the subject of the mortgage.
In one preferred embodiment, mortgage documents are prepared which do not require the borrower to pay interest on the mortgage principal amount. Also, the mortgage documents may permit the sale of the asset in the event of a default in payments by the borrower. Further, the mortgage documents may also limit the lender""s predetermined percentage of the realized appreciation on the subsequent asset sale to a specified percentage of the total realized appreciation value.
In another embodiment, a computer system may be used to calculate the average mortgage principal outstanding during the amortization period. Mortgage documents are then prepared which limit the lender""s predetermined percentage of the realized appreciation on the subsequent asset sale to an amount no greater than an amount equal to a predetermined percentage annual return on the average mortgage principal outstanding during the amortization period, plus a specified percentage of the total amortization period return thereafter. The computer system may also be used to calculate a minimum total return for the lender which may exceed the predetermined percentage of realized appreciation on the subsequent sale of the asset. The mortgage documents may also specify a termination date for the mortgage which is synchronous with the sale of the asset subject to the mortgage. Similarly, the mortgage documents may specify that the repayment of any existing principal is synchronized with the sale of the asset subject to the mortgage, and/or that the payment of all obligations owed by the borrower to the lender is also synchronized with the sale of the asset subject to the mortgage.
In another embodiment, the present invention provides a computer system for implementing a mortgage plan and preparing mortgage documents specifying payment obligations of a borrower to a lender, the mortgage plan including an equity participation mortgage obligation. The computer system includes at least one computer having a central processing unit and a memory, for receiving data regarding the terms of the mortgage, including the principal amount and the amortization period. The computer calculates annual average principal and periodic payment obligations of the borrower accruing under the mortgage obligation, and prepares mortgage documents which include the equity participation mortgage obligation and which specify that the lender may share in a predetermined percentage of realized appreciation on subsequent sale of the asset which is the subject of the mortgage.